Bill Gross’ “New Normal” is Really the Old Normal After All
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Bill Gross and his PIMCO shop started using a term for our economic future that they term “the New Normal”. I hate this term. It is the same thing as saying “this time its different”. It is never different. The same old story is played over and over. The costumes might change, but the story’s the same. It is a bit arrogant for the PIMCO shop to think they are the first to find this new thing.
Mario Gabelli and Bill Gross were on CNBC this morning at the same time. Mario made the point to Bill that the past 100 years saw a 4-5% annual appreciation in the stock market, so if we average 4-5% per year for the next 100 years, then it really is not so new, but is in fact quite an old average. Bill did not have a good rejoinder to this point. Score one for Gabelli. Gross and Gabelli also agree that a good manager can add a few points of “Alpha” to that average return. So, 7-8% is possible with good portfolio management, in a very low inflation environment.
What is really important, after all, is not the nominal return, but the real, or net of inflation, return. PIMCO is not projecting anything “New” here. In the very long run (hundreds of years), “Real Return” averages 2 to 3 percent. Gross is not saying that will change. What he says will change is nominal return which average 8-10 percent from 1929 to 2005. But this was also a period of higher than historical average inflation due to loose dollar policies in the 1930s and again in the 1970s. If inflation returns to its long run average of 2%, than the “New Normal” of 4 to 5 percent has an embedded 2 to 3% Real Return, which is the old normal. I am not sure why Bill Gross is making such a big deal about it.
“The new normal basically recognizes that we’re in an economy that’s de-levering and that we’ll move to an average level that’s lower than before,” Gross said. “We’re de-levering, loans are going to be less available…homeowners are going to have to put 20 percent down now, as opposed to zero.”
The Federal Reserve is likely to keep rates at the same level for a while, because the economy would need to grow by nominal rates of 4 percent or 5 percent to prevent debt from destroying growth, Gross said. “They (the Fed) have to stay low because the embedded cost of debt (interest payments) in the economy is 6 to 7 percent,” of GNP, said Gross.
This brings up an interesting quandary for many of the Bears who frequent the investing world today. Bill Gross, who many consider to be the world’s leading private sector expert on the future of interest rates and bond prices, says they are staying low and must be kept low in order to achieve his “New Normal”, Excess productive capacity and an emerging market with excess and cheap labor also suggest this future reality. Gross implies a long period of low inflation and low return.
This really undermines the Bear argument for high inflation and / or continued crashing of the markets (which is inherently deflationary; never really understood how the Bears expect high inflation and high deflation simultaneously, which underscores how weak is the Bear argument).
As a member of the “baby boom” generation (like Gross) fast approaching retirement, a low inflation environment, with historical 2 to 3 percent Real Return sounds almost ideal to me. I think I will like Bill Gross’ “New (Old) Normal”.
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